Citigroup Suffers More Damage in Housing Crash

Citigroup continues to rank at the top in dollar losses from the housing market meltdown. It has now set aside $23.2 billion in loss reserves. This sum is a bit less than 20 percent of the company’s current market value of $134 billion. Of course, its market value was more than twice as high before investors discovered how deeply involved it was in the subprime mortgage market. The safest bet in this story is that there will be more big write downs to come as falling house prices cause the epidemic of bad debt to spread.

The other major banks are also being hit, even if not quite as hard. Citigroup has already announced that it is laying off almost 10 percent of its workforce. With a sharp reduction in employment at the major banks, Wall Street and New York’s economy are likely to feel the pain.

Even those keeping their jobs are likely to have less money to spend. The stock prices of all the major banks and brokerage houses are down sharply, leading to a tremendous loss of wealth for those in the industry. The value of Morgan Stanley’s stock has fallen by $30 billion from its year ago levels, Merrill Lynch’s decline has been worth almost $40 billion, and Citigroup’s plunge has destroyed $147 billion of market value. While investors all over the world own stakes in these companies, these declines will be disproportionately felt in the New York area. Especially since there is almost certainly more on the way.

Watch the New York housing market. Real house prices in the New York City area more than doubled in the decade from 1996 to 2006, driven in large part by the extraordinary boom on Wall Street. With the boom turning into a colossal bust, the NYC real estate market looks quite vulnerable.

The weak December retail sales data released yesterday confirmed the reports from the chain stores last week. Consumers are beginning to cut back in a big way. There seems to be no way around the conclusion that this was a very weak holiday season. Comparing year over year nominal sales growth figures even understates the weakness somewhat since inflation has been higher in 2007 than it had been in prior years in this decade.

The inflation data released this week must have the Fed worried. Core inflation continues to creep up with the core inflation rate over the last three months reaching 2.7 percent. While this is still a very modest inflation rate by any reasonable standard, it is above the 2.0 percent rate that Chairman Bernanke would like the Fed to target. Furthermore, it looks like there is more inflation in the pipeline as non-fuel import prices are finally reflecting the decline in the dollar, rising at a 4.8 percent annual rate over the last quarter.

The Fed will have to be prepared to accept slightly higher inflation if it continues on its path of lowering rates. In this regard, it is worth noting that a 50 basis point cut in the federal funds rate will push it below the 4.0 percent overnight rate set by the ECB. If the ECB holds and the Fed continues to lower, then the dollar is almost certain to drop further against the euro.

On the policy side, Senator Clinton is one of many prominent political figures calling for a moratorium on foreclosures. It is worth asking what outcome is intended by this policy. Since a moratorium would have to be brought about through legislative action that could take a considerable period of time (assuming that the support actually exists), it is a virtual certainty that the pace of foreclosures would accelerate rapidly while a debate was underway. This would be true even if legislation never passed.

A moratorium could allow time for developing more long lasting solutions, but the burst of foreclosures that would precede the implementation of any moratorium likely means that we are better off doing our planning with the current foreclosure rules in place.

Dean Baker is co-director of Center for Economic and Policy Research in Washington, DC. CEPR's
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